Consumer Confidence and Home Prices

Just a quick note on today’s news:

Consumer confidence continues to drop. The Conference Board report today has confidence at 50.4 in July, down from 54.3 in June and the lowest level since February. The standard explanation for this steady erosion is that unemployment weighs heavily on the minds of everyone. I put a slightly different spin on it: I think the decline is better explained by consumer’s observation that no one is doing much to improve the employment situation. So it is not the lack of jobs that dampens spirits, it is the lack of action. That lack of action implies we are all being left to our own devices. As a result local conditions and each person’s ability to save for contingencies dominate any goodwill that might be generated by national or Federal efforts – were they to exist.

I attribute this perception of lack of effort to two concurrent problems:

First: the divisive nature of national politics has rendered it impossible for any coherent message to be communicated about efforts to bolster employment. The fractious dialog over stimulus, where some regard it as massive government waste rather than a positive force, has made consumers wary and confused over what the Federal government is trying to do. Indeed for a significant number of people government policy is the cause of our problems, not a potential cure. While this disputed role of government gets the headlines, it is never going to develop support for a psychological improvement in consumer expectations. Such an improvement is the essential first step in getting consumers to feel that the worst is over and that a return to ‘normality’ is in the offing. Only then could a virtuous cycle be established of rising confidence begetting rising spending.

Second: what success the stimulus did render – and all non-partisan research shows it was a resounding success within its limits – has been offset by the catastrophe engulfing state and local governments. If we look at the sum total of all government spending in the US economy, then we find that almost all the Federal effort has been absorbed or offset by reductions in local spending. The net effect is that government spending is shrinking rather than expanding. Since, as I just suggested, that most people are more responsive to local effects of the crisis when they develop their spending plans, these local cuts are foremost in their minds. This also helps explain why the mood has turned so sour this year: the original federal stimulus enabled state and local governments to postpone cuts, but as the Federal effort wanes this year those cuts now have to be made. So, in some states in particular, the cuts are only now gathering force. Since cuts in local spending are inevitably concentrated in high visibility services like schools and police forces, the crisis has taken on new dimension: it is undermining the quality of life in places such as California. Hence the apparent sudden souring of the public’s mood.

I could, of course, point out that it was exactly these kinds of issues that motivated me to call for a far larger stimulus. The Federal effort has to offset the drop in national level demand, and insulate the states and other localities, from making drastic cuts in services. It is also supposed to be targeted at jobs: getting more people jobs is the single most effective way of stimulating demand and hence setting in motion a return to normality. That the stimulus was flawed is now beyond debate – we should have had an emphasis on infrastructure and jobs rather than tax cuts; and we should have pumped cash into the states to bail them out. It is only in the context of its flawed construction that the stimulus can be considered a success – as I noted above everyone who runs the numbers agrees it matched its goals. My point is that the goals were wrong. But that was a result of our declining political capacity, not an analytical error.

I do not expect confidence to pick up much, if at all, throughout the year. The employment picture shows no signs of a rapid improvement. And our politics is just stuck in an inane and juvenile backwater.

We need leadership. Don’t hold your breath.

As an afterthought: home prices.

Today’s Case-Shiller news report has prices rising slightly in May, the last month for which data is available.

In fact the index shows a rise in home prices of about 4% over the last year. Frankly I don’t put too much emphasis on this number other than to note that the long decline in prices appears to have ended. There are caveats of course. The index is very ‘lumpy’. Some cities are still showing weakness, while others are stabilizing rapidly. So we have returned to a period of locally determined prices rather than having a national trend. This is simply a reversion to normality. It was always the case that the US housing market was local. The recent crisis being an outlier. If you recall it was the sudden emergence of a national trend in home prices that undermined the mortgage backed securities market: the traders had assumed a continuation of past conditions where prices in, say, California, were unaffected by and independent of, prices in, say, Florida. The return to local pricing trends is shown by today’s report: the strong locations, where prices are recovering somewhat, are all those where the damage was worst – some parts of California have experienced a sharp upturn in prices as the worst of the bubble has been worked off. Other places have prices still declining – in New York prices are still trending down slightly as foreign demand for condos etc weakens along with the European economic difficulties.

Overall I just don’t see a prolonged, or strong, return to home price inflation. The problems of the economy run too deep to allow a renewed bubble.